If you are passionate about a cause, and are looking to do good in your community, starting a nonprofit may have crossed your mind. Many of the articles you read online make you feel good, but don’t give you actionable steps on HOW to actually set up your nonprofit. Properly organizing and attaining a 501c3 tax exemption is critical to starting your successful nonprofit.
Getting set up correctly from the outset will take some investment of time and finances, but provides the foundation for reaping huge rewards. This article will outline the necessary steps to start a 501c3 nonprofit. Keep in mind that depending on the state and your organization, your specific requirements will vary.
Step 1: Plan, Plan, Plan!
Before you get started, do some market research about your cause or idea to identify the needs of the community. If an existing organization already serves your cause, you may want to join forces instead of creating a new organization.
Once you’ve identified the area in which your nonprofit will fill an unmet need in the community, consider enlisting professional assistance to getting started. Service providers, consultants, lawyers, and accountants are all possible people to turn for help. A specialized, experienced professional can help you both in the planning phase and in becoming 501c3 tax exempt.
An important early step is writing your mission statement. Your mission statement should briefly and clearly describe the purpose of your nonprofit. This statement will be important for your government applications, your solicitations for funding, and more. Take your time with this step!
Next up is your business plan, which outlines where will you operate, who will benefit from your programs, how you will generate revenue, etc. Equally importantly, you will want to identify your initial board of directors. Each state has requirements on board member qualification and the IRS will review your board as well. Those individuals should have certain qualifications, and will be able to contribute suggestions, startup funds, and connections that will help your nonprofit grow.
Step 2: Incorporate
Forming a nonprofit corporation is the foundation for your success. With carefully crafted Articles of Incorporation, you will be able to open a bank account and apply for 501c3 exemption. Forming a nonprofit corporation, a legal entity, also limits the personal liability of the officers and directors.
Incorporation consists of a few parts: appointing a registered agent, identifying the incorporators (the individuals executing the Articles of Incorporation), and preparing the Articles of Incorporation with the 501c3 provisions required by the IRS.
Articles of Incorporation are filed with the Corporations Division of your state’s Department of State. The cost to incorporate varies by state, but typically is under $100. Incorporation takes anywhere from a few days to a month or more for the state to approve the Articles of Incorporation.
Pay attention to any additional requirements your state has, including initial reports to the Department of State and publishing notice of incorporation in the newspaper. Missing one of these filings can cause your nonprofit to lose its corporate good standing before you even start! For your state’s requirements, you can use this National Startup Guide as a reference.
Generally, your 501c3 exemption is retroactive to the date of incorporation, as long as you file within 27 months, and the IRS approves your application.
Step 3: Establish Organizational Records
As you’ll quickly discover, setting up a nonprofit is a lot of paperwork. Start compiling important government documents in a nonprofit records book. Keeping electronic copies is often helpful as well!
Once you have incorporated, it’s time to establish your organizational records, including bylaws and a conflict of interest policy. The bylaws are your nonprofit’s constitution. They enumerate officer and director positions, term limits, membership, among many other items. A conflict of interest policy is designed to protect the nonprofit’s interest when it considers entering into a transaction that would benefit an officer or a director individually. The IRS requires that you create and annually certify this document. Both the bylaws and conflict of interest policy will be submitted to the IRS, so you may recruit outside help to ensure these documents meet state and IRS requirements.
You will ratify these bylaws and conflict of interest policy, select a bank in which to open an account, and approve additional resolutions at the organizational meeting of the Board of Directors. Most states require the board to meet at a minimum annually, though for practical purposes, you may meet much more frequently. The keys are to give advance notice of scheduled meetings, and to keep minutes each time you meet. Your meeting minutes will go in your nonprofit records book.
Step 4: Get a Federal ID and Open a Bank Account
It is a misconception that you only need a Federal Employer Identification Number (FEIN or EIN) if your nonprofit will have employees. All new businesses and nonprofits apply for a FEIN from the IRS. This allows the organization to transact business under this ID instead of the Social Security Number of an officer or a director. If one of the officers or directors has a Social Security Number, you can obtain a FEIN online in just a few minutes. If not, you would have to fax Form SS-4 to the IRS. They typically return a FEIN in under a week. Either way, there is no fee to obtain a FEIN.
Practically every bank will need your FEIN in order to open an account. Most banks also will probably ask for recorded (approved by the state) Articles of Incorporation, a copy of your signed bylaws, and personal identification from the officers and directors. Depending on the bank or credit union your board selects, you may be asked to produce additional documentation. It’s best to call ahead and ask before showing up unprepared.
Once you open a bank account, you have a place to deposit your hard-earned funds!
Step 5: Apply for Federal Tax Exemption 501c3 status
Once you have Articles of Incorporation, bylaws, a conflict of interest policy, and a FEIN, it’s time to start working on your application for federal tax exemption. The IRS estimates you will spend over 100 hours in researching your requirements, preparing the form, and assembling the application packet. This is the most time-consuming and difficult step, so hiring a knowledgeable specialist to prepare the application correctly and answer your questions is well worth the up-front cost.
Filing for 501c3 tax exemption usually requires submitting IRS Form 1023. The form asks for all the details about your organization: contact information, officers and director biographies, mission statement, a narrative of activities, and financial information. Additionally, the form has a number of questions to which a wrong answer will lead to a delay, rejection, or additional questions from the IRS. The key is to submit a complete, clear application to the IRS, as you are essentially presenting your case why your nonprofit should be tax exempt.
The application fee is $400 for organizations who project under $10,000 in revenue, and $850 for organizations whose projections are higher than $10,000. Currently, the IRS takes about 3-6 months to review Form 1023 applications. If the IRS requests more information because your application is incorrect or incomplete, that processing time will only increase.
In July 2014, the IRS released Form 1023-EZ, which is a streamlined version of the original Form 1023 application. The purpose is twofold: to reduce the IRS’s backlog of thousands of applications, and to make becoming 501c3 tax exempt easier for smaller organizations. In comparison to its big brother, Form 1023-EZ is only a few pages long, and can be filed online. The IRS returns a determination letter (which is the document indicating your organization is tax exempt), in under a month, sometimes as little as two weeks. However, only certain nonprofits are eligible. If your organization projects under $50,000 in revenue, and owns less than $250,000 in assets, you may be eligible. Churches, schools, foundations, and international organizations are generally not eligible. Review Form 1023-EZ’s instructions for a full list of requirements.
It’s important to get this step right the first time. Rejections become part of your nonprofit’s permanent IRS record. If a contributor reviews your application among many others, a rejection is an easy reason to choose another nonprofit over yours.
If the IRS reviews and approves your application, you will receive a determination letter in the mail. This document indicates that your nonprofit is exempt from federal income tax. The letter also stipulates your effective date of exemption, meaning the date from which contributions are tax-deductible.
Step 6: The World is Your Oyster…Almost!
Congratulations on becoming a 501c3 nonprofit! This exempt status allows you to start fundraising, and to gain access to certain benefits, such as reduced postage rates, conferred only on nonprofits.
You are not done, however, as your state might have additional registration requirements. For example, in many states, your nonprofit has to apply for state income or sales tax exemption. Depending on the work your organization does, you might have state or local licenses and permits to obtain.
Lastly, and most importantly, is your state charitable solicitation license. The subject of nationwide fundraising registration is a complex one, and for this article, we will only mention some key points. This is an additional registration that takes place after you become a 501c3 with your state’s charitable solicitation authority, typically the Attorney General. About forty states have a registration requirement, and in most states, you are required to register before you solicit funds.
The purpose is to protect the state’s citizens from unregulated or illegitimate charities. Additionally, your donors can and will search the state’s database of charities before they give. Registration is done initially and renewed annually in most states. The fee your organization pays depends on your state and revenue. For more information on nationwide charitable solicitation fees and registration requirements, click here.
Becoming a 501c3 nonprofit is extremely rewarding, as it allows you to bring about change in your community. By following the proper course, and seeking the proper guidance, you will be tax exempt, and be able to fulfill your nonprofit’s true purpose.